The Bank of Mum and Dad: lending money to family while protecting your legacy

With property prices soaring, the notion of home ownership is fast slipping from the grasp of young Australians. Where are they turning? The trusty ‘Bank of Mum and Dad’.

It’s natural to want to help your children but when lending money to family, it’s wise to structure that financial support carefully. Otherwise, you can risk damaging your family’s wealth and relationships.

We share how savvy parents can structure loans to assist their children with their dream of home ownership, all while avoiding the common legal, financial and emotional pitfalls. 

Is it a gift or a loan? 

Gifts are simple in concept… but fraught with risk. 

There is a legal presumption that money provided by a parent to a child is a gift, unless clearly documented otherwise. Gifts can be lost in a child’s relationship breakdown, bankruptcy or commercial dispute. If you do intend to gift money to family, banks will often require a statutory declaration confirming the funds are non-repayable.

Loans provide a more structured approach and, if properly documented, can offer asset protection in the event of divorce or financial distress. Courts will look at the existence of a written family loan agreement, evidence of repayments and whether security – like a mortgage – was taken to determine if it’s truly a loan.

What to include in a loan agreement between family members?

When it comes to lending money to family, it may feel awkward to document a formal loan agreement. Note that verbal agreements or “handshake deals” are rarely enforceable and – if things take a bad turn can lead to costly disputes.

A formal, signed family loan agreement is essential. The agreement should include the following key aspects:

• the amount and purpose of the loan
• repayment terms: frequency, amount and duration
• interest rate: fixed or variable and how it accrues
• security: details of any mortgage or caveat
• events of default and remedies
• what happens on sale, refinance or death of either party
• whether the loan is made personally or via a trust/company (with tax implications considered) 
• the loan term or specific maturity date and provision for extension 

Practical considerations for family loans

If you are considering lending money to family, there are some tips and tricks to help you avoid possible complications.

Family law risks

In the event of a relationship breakdown, loans are generally repaid before assets are split, but only if properly documented. An undocumented advance may be treated as a gift, increasing the risk of loss.

Estate planning

Consider how the loan will be treated if you pass away before it’s repaid. Update your will to reflect the outstanding loan, ensuring fairness among siblings and clarity for your executors.

Tax implications

With a loan to a family member there may be tax implications in Australia. Interest received on the loan is taxable income for you. If the loan is made via a company or trust, Division 7A and other complex tax rules may apply – specialist tax advice is therefore essential.

Relationship management

Open communication with all family members is vital to avoid misunderstandings or future disputes, especially where multiple children are involved.

The guarantor trap

Acting as guarantor can expose your own assets to risk if your child cannot meet the repayments. If you do go down this path, ensure you understand the full extent of your liability and seek legal advice.

Timing

Never advance funds until all documentation is properly in place.

Loan security options

• Registered mortgage
  If you are looking for the gold standard of asset protection in support of the loan deed, registering a mortgage over the property ensures your loan must be repaid before the property can be sold or refinanced. If a bank holds the first mortgage, you can register a second mortgage but be aware you’ll rank behind the bank in the event of default.
• Caveat
  A caveat can be lodged to notify others of your interest but offers less protection than a registered mortgage and may be challenged or removed more easily.

Know how to say no

When your child asks for help, of course you want to support them. But in some cases, it’s wise to say no. If your child lacks a stable income or is unwilling to commit to a formal, written loan agreement, these are red flags that could lead to future disputes or financial strain.

• Clarity is key: be clear and direct
when declining a request for financial assistance. While it can be tempting to soften the message by skirting around the issue, ambiguity often leads to confusion or false hope. State your decision clearly and respectfully.
• Explain your reasons: offering a brief, honest explanation so your child can understand your perspective and reduce the risk of hurt feelings. For example, you might say that your current financial situation doesn’t allow for a loan, or that you’re concerned about their ability to manage repayments alongside their other commitments.
• Don’t succumb to guilt: agreeing to something you’re uncomfortable with can create bigger problems down the track. If you’re struggling with feelings of guilt, consider speaking with a trusted friend, counsellor or your Apt Adviser for support and perspective.
• Offer support in other ways: even if you’re unable to provide a loan, there are still meaningful ways you can help your child on their path to home ownership:

1. brainstorm alternative solutions together
2. assist them in organising their finances, starting with a realistic budget
3. help them prepare a strong loan application for a bank
4. explore opportunities to increase their income or reduce current expenses
5. offer short-term help with smaller bills, if appropriate
6. guide them towards reputable financial education resources or put them in touch with your Apt Financial Adviser

Protecting family wealth and harmony

Helping your child buy a home can be a rewarding way to support the next generation, but it’s a step that demands careful planning and professional advice. It’s important to go about lending money to family wisely so you can open the door to home ownership for your children, without risking your own financial security or family harmony.

If you’re considering a family loan, contact Apt Wealth Partners for tailored financial and legal advice to ensure your generosity is both effective and protected.